Love exchange-traded funds or hate them, one thing is clear: the biggest investors are increasingly using them as a way to dabble in inefficient and opaque bond markets.
Harvard Management Co., for example, sold about $90 million of shares in two junk-bond ETFs, some of its largest reported trades in the three months ended June 30. Two of the top three equity holdings reported by hedge-fund firm Tudor Investment Corp. were in corporate-bond ETFs, according to an Aug. 14 filing outlining positions as of June 30.
What’s the allure? Why not just buy and sell actual bonds?
ETFs have shares that trade in real time, just like stocks, even while sometimes owning baskets of these idiosyncratic, infrequently transacted bonds. They’re relatively new to the bond-investing scene, with BlackRock Inc. creating the first corporate-debt ETF in 2002, becoming more popular in the past few years as average turnover in the underlying debt declined.
This mismatch in liquidity has drawn criticism from big investors including billionaire Carl Icahn, who said ETFs give an illusion of flexibility in “extremely illiquid, and extremely overpriced” securities such as high yield bonds.
It’s clear a growing number of his investing peers disagree with him. Or at least they aren’t sold enough on his doom-and-gloom arguments to stay away from a tool that looks a lot easier, and sometimes cheaper, than delving into credit markets that are vulnerable to sudden, unpredictable moves.
While Harvard Management’s ETF sales account for a tiny fraction of the $36 billion endowment’s portfolio, they demonstrate its willingness to use such funds to quickly change exposure to a less-traded asset class. Most of the endowment’s trades are done privately through third parties and aren’t reported in regulatory filings.
Calls and e-mails to Harvard Management representatives weren’t immediately returned.
Aside from Harvard Management and Tudor, asset managers that reported bond ETF trades in regulatory filings last week included Pine River Capital Management, Millennium Management, Mariner Investment Group and Citadel Advisors.
“Most investors are looking at them as another credit derivative product,” said Kevin McPartland, head of research for market structure and technology at Greenwich Associates, a consulting firm based in Stamford. “This is part of the bond liquidity story.”
After all, even the most sophisticated investors would often rather trade a stock than try to find a buyer or seller for debt that may never trade again.